Missing Pillar 2: Sharing

Coordination mechanisms – of all sorts: planning/investment, system operation, market operation, and system/market interaction – inevitably lead to choices about how to share (future or already available) resources.

In the planning phase, public policies, market needs and security of supply concerns must be taken into account (see Fig. 1.11). These inputs, together with some internal planning criteria, such as reliability standards, adequacy level and efficiency indicators, provide the necessary ingredients for infrastructure (and in particular network) planning.

Any network plan encloses a large number of trade-offs among diverse, and sometimes contradictory, goals, as it organises a comprehensive set of resources and processes necessary to achieve these desired goals. If this network is interconnected with other networks, some degree of planning coordination among the respective planning bodies is necessary, for obvious reasons; this may require further trade-offs. Besides dealing with all these inevitable, more or less explicit trade-offs, network planning must also cope with several uncertainties like demand growth and the location of new generating units.

16 See the Request for amendment by all NRAs agreed at the energy regulators’ forum on all NEMOs’

proposal for the plan on joint performance of MCO functions (MCO Plan), 26 September 2016, available on the Ofgem website.

17 ENTSO-E, Governance of the market coupling operation functions transmission system operators’

perspective, July 2016, available on the ENTSO-E website.

18 Ibid.

19 The NEMO Committee has been established to manage joint responsibilities of NEMOs under CACM. See the joint press release on the Epexspot website.

Once a network plan is approved, it needs to be implemented through appropriate investments. The resulting network provides the necessary physical resources to achieve the desired goals and it materialises the trade-offs decided at the planning stage.

Fig 1.11: Schematic description of network planning

In the ideal world of perfect planning, absolute certainty and flawless networks, it would be relatively easy to share the available network assets among all network users in a perfectly efficient and fair way. However, in the real and imperfect world it is more difficult to ensure efficiency and fairness to all network users, at all times.

The compound effect of planning mistakes and unintended consequences, unexpected delays and uncertainties create situations where some network users are better off than others and situations where inefficiency is persistent. Under these circumstances, sharing the available network resources, i.e. allocating costs and benefits to different network users, becomes a less trivial regulatory problem. The definition of appropriate incentives or penalties to be applied to network owners and operators is another key, but hard regulatory challenge.

Once a network is built, it must be operated. System operation takes into account two different kinds of inputs:

− Market requirements, i.e. a description of what all market agents want to do and how their transactions impact upon (are mapped onto) the network;

− Regulatory constraints, i.e. rules imposed by legislation and/or sector regulation such as giving priority dispatch to power plants using some types of primary energy.

Basically, system operation is an attempt to fulfil market requirements while respecting regulatory constraints, as well as the intrinsic, physical network

constraints. System operation transforms a passive set of physical resources (lines, cables, substations, etc.) into an active system that enables the continuous performance of successive electricity transactions among network users.

The use of the network is associated with four main technical electricity characteristics (see Fig. 1.12):

− Capacity, available transmission volume (global and at each network branch) changes according to different use patterns by generators and loads;

− Frequency, frequency of the electrical current must be kept within very strict limits around 50 Hz;

− Voltage, at each network node, voltage must be kept within given limits;

− Security, to each operating point (characterised by a well-defined set of node voltages and power flows) corresponds a certain quantitative degree of stability for the electricity system as a whole.

Three of these electricity characteristics (frequency, voltage and security) are ‘public goods’, i.e. they are characteristics of electricity which are excludable and non-rivalrous when being consumed by network users. They are equally available for these network users. Capacity, on the other hand, has a different nature. It is a ‘club good’, i.e. its consumption by network users is non-rivalrous only up to a point (as long as congestion is absent). Capacity is also excludable because if one network user – or a limited number of – is/are allowed to take the full capacity of a power line, all others are excluded from the use of that same power line.

Fig 1.12: Schematic description of network/system operation

As regards the three public goods – frequency, voltage and security – there are two main questions that also impact network users:

− Who should be allowed and who should be obliged to provide the necessary

‘system services’ (or ‘ancillary services’) that create these public goods?

− How should those providing the required system services be remunerated? In particular, to which extent can/shall a fair remuneration be established through market mechanisms?

As regards capacity, how to share the available transmission capacity among network users is a fundamental regulatory challenge in liberalised markets. In Europe, as in many other places, the complexity of the problem was too often underestimated, in spite of early warnings, such as the paradigmatic position expressed by William Hogan from Harvard University in his submission to the US Federal regulator FERC in 1991:

“Of course, it is difficult to separate good access from bad access, or to separate the calls for reasonable transmission limitations designed to protect reliability from unreasonable barriers designed to protect vested interests. Furthermore, the policy-makers have heard it all before elsewhere in the defense of heavy regulation and limited access in the case of airlines, trains, trucks, telephones, natural gas, and so on. The instinct of many reformers is to get the prices right, provide access to the transmission system and let the new competitors enter.

In the broad policy debate, therefore, natural suspicion arises when utility industry executives and system operators (the insiders’ insiders) warn of the complexity of the transmission grid and the dangers of open access. Pressed by the desire to move ahead, it is easy to dismiss the arcane features of transmission grids – including loop flow, reactive power compensation, frequency control and contingency analyses – as mere operational details. Given the experience in other industries, it is tempting to assume that these details can be ignored for purposes of the grand policy design.

In the case of electric power transmission, however, the details do matter and they have a potentially dramatic impact on the character of possible reforms. The detail in electric power transmission may not be so easy to dismiss – much that seems obvious isn’t.(…)

At a minimum, existing congested transmission systems will complicate the transition to a new electricity market. For the foreseeable future, therefore, the transmission

grid needs new rules that replace a reliance on the familiar fictions with a respect for the unfamiliar facts”.²⁰

Unfortunately, Bill Hogan’s assumption proved right: details were “ignored for purposes of the grand policy design” not only in the USA, but also in Europe and in other parts of the world.

In the European Union, the three founders of European energy regulation clearly pointed out the importance of operational details shortly after the first energy Directives were approved, at the First European Electricity Regulation Forum, in Florence. The importance of coordination and fair sharing of costs and benefits was also underlined in a joint statement they presented in October 1998, at the Second European Electricity Regulation Forum:

“Although the basic duties of system operators and the way they manage transmission networks are the same everywhere, the way system operators interact with producers, customers and other agents depends on the organisation of electricity trade. Transparency of transmission access, use – including pricing – and operation rules is a key factor for the success of the internal electricity market. In particular, it is important to have a clear distinction between the following functions and their associated costs:

a) operation, maintenance and development of the transmission system;

b) technical system co-ordination;

c) commercial co-ordination”.²¹

The same European regulation pioneers even indicated the crucial operational details missing in the first electricity Directive:

20 Hogan W.W. (1991), Transmission capacity rights for the congested highway: A contract network proposal, Testimony submitted to the Federal Energy Regulatory Commission, available on the Harvard website.

21 This statement was later published in Vasconcelos J., M. Ordóñez and P. Ranci (1999), Transmission and Trade of Electricity in Europe, Oil & Gas Law and Taxation Review, vol. 17 (2).

Although significant progress has been achieved on the “use of inter-connectors”, first on a voluntary basis (agreement reached at the Florence Forum in early 2000), then through the 2003 and 2009 electricity Regulations, and subsequent Network Codes, progress on the other topics has been extremely slow: for instance, no general solution for cross-border balancing has been implemented yet.